Tax Rates vs. Taxes Paid — a Primer for Homer Simpson

Commentary on this blog shows persistent confusion about the share of federal personal income taxes paid by “the rich.” Pundits of a lefty persuasion focus on the tax rate, which is low by historical standards, and thereby assume that the taxes paid by the rich is likewise low. The left-hand bar on this chart shows what share of taxes the 1.4 million households with the highest income (the top 1%) paid. (This chart comes from the Mercatus Center.)

The Top 1% took home 24% of all U.S. income, a share that has been increasing steadily over the past three decades. They also paid 38% of all federal personal income taxes. That share, too, has been increasing steadily over the past three decades.

To some, like President Obama, that tax take is not progressive enough. Citing the low rate of taxation on “millionaires and billionaires,” Obama proposed last week to reduce tax loopholes for “the rich” and raise the top tax bracket on households making more than $250,000.

Here’s the problem: As Mercatus points out, the super-rich (the 400 highest-income taxpayers in the U.S.) pay a lower effective rate because most of their income is capital gains, which is taxed at a higher rate than wages, salaries and other forms of compensation. Raising the tax rate on wages and salaries will not touch the capital gains tax rate.

Why not raise the rate on capital gains? If your goal is to beat your chest in a ritual display of liberal wrath and indignation, be my guest. Just don’t expect the super rich to actually increase the amount of taxes they pay. Capital gains are the ultimate discretionary tax — people pay them only when they incur a taxable event — the sale of stock or other asset. If rich people object to paying the tax, they just hold onto their asset without ever selling it. This is “d’oh” economics. Even Homer Simpson could figure it out.

How do we move toward a more egalitarian society? Not by increasing taxes and punishing the rich. It would be far more effective to reduce taxes and other disincentives to save, allowing middle-class households to accumulate more wealth-generating assets. For the poor, create an economic climate that encourages job creation. But the United States is still hooked on Mass OverConsumption, doing everything possible to stimulate consumption, short-term economic growth and short-term tax revenues, heedless of the impact on the long-term health of the economy.

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